Cablegate: Colombia Tightens Capital Controls -- More Harm


DE RUEHBO #1708/01 1301610
R 091610Z MAY 08




E.O. 12958: N/A


1. (SBU) SUMMARY: One year after Colombia's Central Bank
implemented controls on inflows of foreign capital in an
attempt to stem the appreciation of the Colombian peso, the
U.S. dollar has fallen a further 16 percent and reached a
nine-year low against the peso due to external and domestic
pressures. The appreciation has strained the competitiveness
of Colombia's export industries, spurred job losses in the
textile and agricultural sectors, and undercut the buying
power of Colombian families dependent on remittances.
Despite their failure to date, the GOC has taken steps to
tighten the capital controls and announced debt swaps to
staunch an even greater rise in the peso. Local economic
analysts are increasingly concerned short-term GOC remedies
could cause more economic damage than the peso's
appreciation. END SUMMARY

Fighting Windmills

2. (U) Since January 2007, the Colombian peso has appreciated
almost 21 percent against the U.S. dollar and 7 percent
against the Euro. Analysts agree that a series of factors,
many external, have driven the peso higher including the
global slide of the U.S. dollar and record prices for key
export commodities such as oil, coal, and nickel.
Internally, a historic inflow of Foreign Direct Investment in
2007 (USD 9 billion), continuing GOC fiscal deficits and the
increasing gap (7 percent) between interest rates in Colombia
and the U.S. have exacerbated the peso's appreciation.

3. (SBU) Under pressure from Colombia's export industries to
protect price competitiveness, the GOC announced a set of
capital controls in May 2007 that require foreign currency
investments to deposit 40 percent of their investment's value
with the Central Bank for six months or face stiff withdrawal
penalties. A year later, GOC officials acknowledge the
controls have failed to prevent the peso's rise, but argue
that without the controls the appreciation would have been
worse. The GOC insists not only on the need to maintain the
controls, but in late April announced measures to tighten
them further. The new restrictions apply the existing
deposit requirement to any credits Colombian firms receive
overseas and to firms that finance imports for more than six

Economic Headache #1

4. (SBU) Finance Minister Zuluaga has publicly referred to
the peso's appreciation as Colombia's "biggest economic
headache". Despite 7.5 percent GDP growth in 2007 and a
falling overall unemployment rate, the peso's rise has
reduced the volume of Colombian exports and led to job cuts
in export-related industries including textiles, footwear,
and agricultural products. Colombian Textile Association
President Ivan Amaya estimates the industry could shed as
many as 8,000 jobs in 2008 due to a loss in price
competitiveness for its exports. According to Colombia's
economic statistics agency, DANE, imports of finished apparel
grew 80 percent in 2007 while imports of fabric to produce
textiles in Colombia for re-export grew only 6 percent.
Overall, textile exports to the U.S. fell 26 percent and
footwear fell 54 percent.

5. (SBU) The peso's appreciation has had a similarly
pronounced effect on agricultural exports. Agriculture
Minister Arias has stated that for every 100 pesos of
appreciation against the U.S. dollar, Colombian agricultural
exporters lose USD 175 million. According to him the flower,
coffee, banana, and sugar sectors are the most vulnerable.
The Colombian Banana Growers' Association (Augura) told us
the banana sector has lost over 1,000 jobs this year due to
the peso's appreciation and 17 percent drop in exports to the
U.S. in 2007. Meanwhile, the Colombian Sugar Association
(Asocana) announced May 8 that the sugar industry experienced
a 44 percent drop in profits in 2007, mostly due to the
peso's appreciation. Despite record world coffee prices and
increasing productivity, Colombian coffee growers estimate
the sector lost over USD 200 million last year due to the
strength of the peso.

6. (U) The appreciation has also hurt the value of
remittances from overseas, impacting millions of poor
Colombians that depend money sent home by Colombian
expatriates. According to Colombia's 2005 census 3.3 million
Colombians live overseas, with 1.2 million of those
expatriates in the U.S. In 2007 remittances totaled an
estimated USD 4.4 billion, or approximately 3.7 percent of
Colombian GDP (reftel). According to press reports, the drop
in the local buying power of remittances has led to drop in
sales and business activity in rural areas that receive the
bulk of the funds.

Treatment Worse than the Disease?
7. (SBU) Notwithstanding the pressure on exporters and
remittance beneficiaries, most investors and local economic
analysts agree that the GOC's capital controls have caused
more damage than good. They assert that the controls limit
the number of participants in the local stock market and
thereby distort share prices downward. Brokerage firm
Corredores Asociados concluded that without the capital
controls instituted in 2007 the value of shares traded on the
Colombian Stock Exchange (BVC) would now total USD 27 billion
more than their current valuation.

8. (SBU) The controls have also limited the amount of foreign
investment in Colombian public debt, maintaining interest
rates artificially high and raising the cost of issuing debt
on the domestic market. Corredores Asociados analyst Ricardo
Duran insists that easing conditions on foreign capital would
lower interest rate and borrowing costs for exporters,
offsetting any further appreciation of the peso following
removal of the capital controls. Mauricio Cardenas, Director
of Colombia's prominent economic think-tank Fedesarrollo,
told us that it is obvious the controls are not working, but
said the measures were politically difficult to lift given
that the number of exporters, workers and consumers impacted
by the peso's appreciation.

Time for a New Approach

9. (SBU) Recognizing the political pressure to restrain the
peso's rise and the capital controls' lackluster results, the
GOC has begun seeking a new approach. On May 6 Finance
Minister Zuluaga announced the GOC would convert USD 2
billion in outstanding foreign-currency denominated debt to
peso-denominated debt through a series of currency swaps and
hedge operations with local banks. The plan intends to
increase demand for dollars as local banks buy dollars on
behalf of the GOC to pay international creditors and thereby
cool the appreciation of the peso. Over the longer term, the
operation will decrease the currency risk exposure on
Colombia's overall debt stock. Minister Zuluaga indicated
that once the initial installment of USD 2 billion was
complete, the GOC would consider expanding the effort to
cover all USD 20 billion of its foreign currency-denominated
debt. He also encouraged private sector debtors to explore
similar steps to shift their debt from dollars to pesos.

10. (SBU) Analysts have had mixed reactions to the
announcement with some suggesting the move could help
facilitate Colombia gaining investment grade status for its
debt and others expressing concern that the swaps will lock
in the peso's value at a high rate. Echoing a recent article
in newsweekly Cambio written by former Finance Minister Jose
Antonio Ocampo, Cardenas told us that Colombia could more
effectively address the structural issues pushing the peso
higher by actually pre-paying its public debt and reducing
government spending, instead of simply switching the
denomination of the debt.

© Scoop Media

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